Britain can not escape the dire reality around our pension fund returns. A 2021 survey indicates that 87% of defined contribution pension scheme members can expect a shortfall in retirement income due to suboptimal allocations. Things are only going to get worse.
A 2015 report from the World Economic Forum reveals a daunting retirement gap, projected to reach £25 trillion. To reverse this alarming projection, cross-party interest has emerged, fostering initiatives that align with our shared vision: better returns for pension holders, flourishing British businesses, and collective growth in the UK economy.
The limitations of defined contribution pension savings, including low contributions and poor net returns, exacerbate the problem. At a time when increasing contributions may be a challenge or completely out of the question for many, we need to focus on how returns can be improved. Providing access to unlisted asset classes such as infrastructure loans, real estate, and private equity could significantly enhance returns over the life of a policy. Even a modest allocation to unlisted equities can provide investment gains traditionally enjoyed only by the wealthy and well-informed.
Here’s where we can draw inspiration from successful initiatives implemented overseas, such as the Canadian pension model. Top ten public pension organizations in Canada manage over £700 billion in net assets, generating £2.5 billion of additional value compared to other global funds. Through a combination of pension pot consolidation, higher contributions and investment in infrastructure, private equity and real estate, these funds consistently invest in and reap rewards from growing UK companies.
I have been actively working with industry leaders, from asset managers to pension providers, to forge a voluntary expression of intent that prioritizes increased investment in unlisted equities. This commitment not only bolsters the retirement incomes of millions but also stimulates investment in innovative, high-growth UK companies struggling to secure growth capital domestically. Currently, sophisticated investors from abroad fulfill their funding needs, often leading to the relocation of these companies, along with their know-how, jobs, and value, away from the UK. Our goal is simple: offer everyone the chance to benefit from Britain’s brightest intellectual property by providing a minimal exposure to later-stage growth capital through their pensions.
Contrary to risking UK pensions, we propose a modest 5% allocation to private equity, suitable for pension savers with an extensive horizon, such as 40 years, thus nullifying short-term volatility concerns. Furthermore, our actions will not be rushed. By 2030, the projected £1 trillion investment in our DC pension system would provide £50 billion over the next seven years, offering policyholders exposure to the remarkable science and technology companies coveted by sophisticated global investors. Smaller pension pots can co-invest in a Future Growth Fund, benefiting savers collectively.
Importantly, this initiative is a private sector endeavor, prioritizing the savers’ benefits. A private sector investment board, subject to proper governance structures, would manage the investments, with no intention of filling government coffers or exerting government influence. This initiative primarily targets the majority of defined contribution pension holders—typically the youngest and lowest-paid workers in the country.
While global equity exposure, both listed and unlisted, remains a sensible investment strategy for pensions, we propose encouraging, rather than mandating, a significant percentage of the fund to concentrate on UK assets. UK companies must compete with international peers for pensioners’ capital, basing investment decisions on the potential for the strongest returns.
The UK’s smaller venture capital funds, compared to international counterparts, hinder diversified investment by pension funds. Consequently, the UK focuses on early-stage funding rounds while missing out on participation in later follow-on stages, forfeiting potential returns from the next generation of leading UK companies in fintech, life sciences, biotech, and green technology. Many of these high-growth companies are left with no option but to seek capital overseas.
There has been significant discourse on pensions and investments, including the concept of mandatory allocations to unlisted equities. Whilst this may appeal to some, it is not a perfect solution. A government mandate could add regulatory and administrative complexities, increased costs and inefficiencies. As Milton Friedman put it the government should be a referee, not an active player. Instead, I believe once we can remove the barriers currently preventing DC pension schemes from investing in unlisted equities at scale, they will make the best decisions for their savers.
Urgent action is needed to address two key issues affecting real people and our most promising businesses. First, we must prevent a generation of savers from struggling into retirement under economic pressures. Second, we need to reinvigorate the equity-owning culture in the country, fostering vibrant private and public equity markets to become the home of the world-leading companies of tomorrow.
The City plays a vital role in generating economic growth across the UK, and managing pension fund investments in the best interests of pensions savers is integral to this mission.
Nicholas Lyons is the Lord Mayor of the City of London
